Tuesday, June 15, 2010

Is the “structural deficit” a useful concept?

The so called structural deficit is that part of the deficit which won’t disappear when the economy returns to normal. OK, it’s a concept of sorts. But having measured it, what does that tell us?

If the structural deficit as £Xbn a year, does that mean that we must work our way towards cutting £Xbn from the deficit? Certainly not! It could be that in two or three years time we will need to cut far more, or it could be far less.

It depends, amongst other things on what the private sector is doing. If the private sector continues to deleverage and hoard cash, the last thing we would need is deficit cuts.

On the other hand if the private sector gets uppity and too confident – if there is a stampede for 110% mortgages – then swinging deficit cuts would be in order. Possibly even a public sector surplus would be in order.

So what’s the use of this “structural deficit” concept? Not much.Afterthought added 27th June. In other words as the advocates of modern monetary theory (aka functional finance) have been saying for decades, the deficit (or surplus) in any year should be whatever optimises the unemployment / inflation relationship in that year. I.e. the deficit (or surplus) can look after itself. Period, full stop, end of argument.